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Monday, October 31, 2016

Uncertainty Keeps Markets Rangebound

Charles Schwab: On the Market
Posted: 10/31/2016 4:15 PM ET

Uncertainty Keeps Markets Rangebound

U.S. equities finished modestly lower and near the unchanged mark, as investors look ahead to monetary policy meetings out of the U.S., the U.K. and Japan, as well as Friday's domestic jobs report, to gain more clarity. M&A activity dominated the equity front, headlined by Dow member General Electric's oil and gas combination with Baker Hughes and CenturyLink's tie-up with Level 3 Communications. Treasuries were modestly higher, following mixed economic data, while crude oil prices continued to selloff, exacerbated by disappointing OPEC talks over the weekend. Gold was higher, while the U.S. dollar was nearly flat.

The Dow Jones Industrial Average (DJIA) declined 19 points (0.1%) to 18,142, the S&P 500 Index was nearly unchanged at 2,126 and the Nasdaq Composite ticked nearly 1 point lower to 5,189. In heavy volume, 1.0 billion shares were traded on the NYSE and 1.7 billion shares changed hands on the Nasdaq. WTI crude oil tumbled $1.84 to $46.86 per barrel, wholesale gasoline ticked $0.03 lower to $1.42 per gallon and the Bloomberg gold spot price rose $2.58 to $1,278.05 per ounce. Elsewhere, the Dollar Index—a comparison of the U.S. dollar to six major world currencies—was nearly unchanged at 98.35.

Dow member General Electric Co. (GE $29) announced that it will combine its oil and gas business with Baker Hughes Inc. (BHI $55). Under the terms of the deal, Baker Hughes shareholders will receive a special one-time cash dividend of $17.50 per share and 37.5% of the new company. GE will own 62.5% of the company and the transaction is expected to close in mid-2017. Both GE and BHI finished lower.

CenturyLink Inc. (CTL $27) announced an agreement to acquire Level 3 Communications Inc. (LVLT $56) for $66.50 per share in cash and stock, in a transaction valued at about $34.0 billion, including the assumption of debt. Under the terms of the deal, LVLT shareholders will receive $26.50 per share in cash and a fixed exchange ratio of 1.4286 shares of CTL for each share they own. Shares of CTL were lower, while LVLT gained solid ground. Both companies separately reported 3Q earnings results, with CenturyLink topping profit forecasts and matching revenue expectations, while Level 3 missed estimates.

Cardinal Health Inc. (CAH $69) reported fiscal 1Q earnings-per-share (EPS) ex-items of $1.24, above the $1.21 FactSet estimate, with revenues rising 14.0% year-over-year (y/y) to $32.0 billion, north of the expected $31.1 billion. Shares were nicely higher despite the company lowering its full-year EPS guidance, as its pharmaceutical segment profit is expected to be down y/y, due to generic pharmaceutical pricing and reduced levels of branded inflation.

Personal income and spending rise

Personal income (chart) was 0.3% higher month-over-month (m/m) in September, below the Bloomberg forecast of a 0.4% rise, and compared to August's unrevised 0.2% increase. Personal spending gained 0.5% last month, north of the expected 0.4% increase and versus August's downwardly revised 0.1% dip. The September savings rate as a percentage of disposable income was 5.7%. The PCE Deflator was up 0.2%, matching expectations. Compared to last year, the deflator was 1.2% higher, in line with estimates. Excluding food and energy, the PCE Core Index moved 0.1% higher m/m, matching expectations, and the index was up 1.7% y/y, in line with estimates.

For more on the consumer, see Schwab's Chief Investment Strategist Liz Ann Sonders' latest article, Vertigo: Effect of Spiking Healthcare Costs on Consumers, at www.schwab.com/marketinsight and follow Liz Ann on Twitter: @lizannsonders.

The Chicago Purchasing Managers Index (chart) fell but clung to expansion territory (above 50), after dropping to 50.6 in October from 54.2 in September and versus expectations of a dip to 54.0. New orders, production and inventories declined, while order backlogs and employment rose.

The Dallas Fed Manufacturing Index improved to -1.5 for October, from September's unrevised -3.7 level, with economists forecasting an increase to 2.0. A reading below zero denotes contraction in activity.

Treasuries were higher, as the yield on the 2-year note lost 1 basis point (bp) to 0.85%, while the yields on the 10-year note and the 30-year bond dipped by 3 bps to 1.83% and 2.59%, respectively. Bond yields have given back some of a recent rally that has come from some relatively upbeat economic data and elevated Fed rate hike expectations and Schwab's Chief Fixed Income Strategist, Kathy Jones notes in her article, Are Bond Yields About to Rise?, the shift to higher yields is likely to be slow, in our view, but markets don’t appear to be prepared for the change. We suggest investors prepare for a potential rise in bond yields by trimming exposure to bonds with either long durations or high credit risk. Read more at www.schwab.com/onbonds and follow Kathy on Twitter: @kathyjones.

A heavy week of data will continue tomorrow, with key reads on October manufacturing activity, courtesy of the ISM Manufacturing Index and the final Markit Manufacturing PMI Index (economic calendar). ISM's index is projected to tick higher to 51.7 from 51.5 in September, while Markit's index is estimated to be unrevised at 53.2, and up from September's 51.5 level. Readings above 50 denote expansion. As well, construction spending will be reported, forecasted to have risen 0.5% m/m during September, following the 0.7% decline seen in August.

However, Wednesday's monetary policy decision from the Federal Open Market Committee (FOMC) and Friday's October nonfarm payroll report are poised to command most of the attention, with traders looking to clear up uncertainty regarding a December rate hike.

As noted in the recent Schwab Market Perspective: Looking Past the Election, economic data continues to support a sluggish growth narrative, although there are glimmers of hope that we could see at least a modest acceleration in 2017. Barring a surprise move on Wednesday, which could jolt the market as odds of a hike at that meeting remain low, the focus on the Fed will move back to the forefront following the election, with all eyes on the December meeting. Fed members have been preparing the market and investors for a hike, and we believe, after several false starts, it will actually follow through this time around. Perhaps equally as important will be the message the Fed sends around the next two meetings regarding what it may be looking to do into 2017. Read more at www.schwab.com/marketinsight. Be sure to follow Schwab on Twitter: @schwabresearch.

Finally, with U.S. political risk hamstringing the global markets Schwab's Vice President of Legislative and Regulatory Affairs, Michael T. Townsend offers his latest article, Final Clinton-Trump Debate Sets Up a Sprint to the Finish Line, as part of our election 2016 commentary at www.schwab.com/insights/category/election-2016, where you can also find timely analysis of The Stock Market and Election Cycles.

Europe sees red, Asia mixed amid lingering uncertainty

European equities finished lower, with oil & gas issues seeing pressure after talks over the weekend between the Organization of the Petroleum Exporting Countries (OPEC) yielded no new developments regarding a production cut. Also, global sentiment was stymied by flared-up U.S. Presidential uncertainty as the November election looms, while Italian banking concerns resurfaced. In economic news, preliminary eurozone 3Q GDP rose at a 0.3% quarter-over-quarter (q/q) pace, matching forecasts and 2Q's expansion, while output grew 1.6% year-over-year, in line with estimates and the prior quarter's gain. However, German retail sales unexpectedly dropped in September. Schwab's Chief Global Investment Strategist Jeffrey Kleintop, CFA, offers timely analysis of the global economic picture in his article, World Tour: An Around The World Look At the Economic Landscape, at www.schwab.com/oninternational, and follow Jeff on Twitter: @jeffreykleintop. The euro was lower versus the U.S. dollar and British pound reversed to the upside in late-day action, while bond yields in the region dipped.

Stocks in Asia finished mixed, as the global markets remain uncertain regarding the presidential race in the U.S., while the world monetary policy landscape continues to garner attention, with decisions looming in the U.S. and U.K. this week, and the Bank of Japan expected to announce its policy stance tomorrow. For our latest analysis of Japan's monetary policy, see Schwab's Jeffrey Kleintop's, CFA, article, Going Godzilla: What has the Bank of Japan Unleashed?, at www.schwab.com/oninternational. The persistent pressure on crude oil prices also bogged down the energy sector, exacerbated by no production cut agreement following weekend talks between OPEC. Stocks in Japan dipped on the heels of a disappointing September industrial production report, which may have overshadowed some weakness in the yen and the announcement that the nation's three largest shipping companies agreed to combine their container operations. Mainland Chinese equities and those traded in Hong Kong also dipped, while South Korean listings declined markedly, even as a report showed the country's industrial production unexpectedly rose in September. Strength in Australian mining issues gave that nation's markets a boost, as China strengthened its currency, more than offsetting sluggishness in oil & gas stocks and a drop in the tech sector. Finally, markets in India were closed for a holiday.

Tomorrow, the economic calendar overseas will focus primarily on the Asia/Pacific region, with South Korea set to release CPI and the trade balance, as well as China's trade balance and manufacturing and non-manufacturing PMIs, and Japan's manufacturing PMI. In addition to the aforementioned monetary policy meeting of the Bank of Japan, the Reserve Bank of Australia will also meet to discuss policy, with no change to its benchmark rate expected.

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